Compared to income tax, national insurance contributions attract little sustained scrutiny even though they provide large amounts to the public purse.
Prem Sikka is an Emeritus Professor of Accounting at the University of Essex and the University of Sheffield, a Labour member of the House of Lords, and Contributing Editor at Left Foot Forward.
Compared to income tax, national insurance contributions (NIC) attract little sustained scrutiny even though they provide large amounts to the public purse. Comparatively little attention is paid to national insurance avoidance.
The Office for Budget Responsibility expects that NICs will yield £200.6bn in 2025-26, representing 16.3% of all tax receipts. NICs are levied on employees, employers and self-employed at different rates. Pensioners do not pay NICs though if employed, the employer is liable to pay NIC on qualifying income at the appropriate rate.
About 20% of the NIC revenue goes to the NHS. Most of the remainder is held in the National Insurance Fund and is used to pay the state pension, employment and support allowance, maternity allowance, bereavement benefits, jobseeker’s allowance, guardian’s allowance, incapacity benefit and redundancy payments to workers whose former employers are unable to make appropriate redundancy payments. However, there is no automatic relationship between NIC revenue and the level of contributory benefits. It is also worth noting that in recent years, subject to conditions, governments have exempted (zero rated) employers in Freeports and Enterprise Zones from making employers’ national insurance contributions for employee earnings of up to £25,000 a year, a subsidy handed to select few corporations.
Over the years, Tory governments have cut the marginal income tax rates for the rich. The top marginal rate of income tax on earned income has declined from 83% in 1979 to the present 45%. The 15% investment income surcharge, mostly paid by the wealthy, was also abolished in 1984. NICs are also used to transfer wealth to the comparatively rich.
Just before the 2024 general election, the Tory government prepared a poison pill for the incoming Labour government by reducing the NIC rate for employees. In January 2024, it reduced the main employee rate on qualifying income from 12% to 10% and then to 8% in April 2024. The biggest beneficiaries of the £10.1bn cut were the richest. The Institute of Public Policy Research (IPPR) reported that “For every £1 the Chancellor spent cutting NICs 45p went to the 20 per cent of households with the highest income. Just 3p went to the fifth of households on the lowest incomes”. The cuts deepened regional inequalities. The biggest winners were from London and the South East where salaries are the highest.
The Labour government is entrapped by its manifesto promise not to increase the rate of employee NIC. Faced with public spending pressures, from April 2025 it increased the employer NIC rate from 13.8% to 15% of qualifying salaries. But the issue of NIC avoidance still lingers large. The National Insurance Contributions (Employer Pensions Contributions) Bill tackles pension salary-sacrifice schemes, a national insurance perk primarily enjoyed by higher earners.
The point to note is that both employee and employer pay NICs on pension contributions when an employee pays into their pension. However, if an employer pays directly into an employee’s pension, neither employers nor employees pay NICs on the contribution. Some employers offer ‘salary sacrifice pension schemes’ to take advantage of this difference. In a salary sacrifice scheme, an employee agrees to reduce their salary and in return the employer contributes the reduced amount directly to the employee’s pension. Because an employee’s salary is lower when they are part of a salary sacrifice scheme, both employee and employer pay lower NICs.
In her November 2025 budget speech, the Chancellor said that the tax cost of salary sacrifice schemes has risen “from £2.8bn in 2017 to £8bn by 2030, with the greatest benefit going to higher earners … I am therefore introducing a £2,000 cap on salary sacrifice into a pension”. The Bill abolishes NICs tax relief on employer salary sacrifice pension contributions above £2,000 per year per employee. The change would restrict tax relief on pension contributions primarily to higher earners and increase NICs by £4.8bn in 2029/30 and £2.6bn in 2030/31. The reform has been described as “highly progressive” by the conservative Institute for Fiscal Studies.
However, NIC remains a regressive tax. Currently, employees pay NIC at the rate of 8% on annual earnings between £12,570 and £50,270, and 2% on earnings above £50,270. The net result is that basic rate taxpayers pay a higher proportion of their income in NIC than those on higher incomes. Some defend this by claiming that higher earners pay income tax at marginal rate of 40% on annual earnings between £50,271 to £125,140, and 45% on earnings above £125,140. Such arguments ignore the fact that overall the poorest 20% pay a higher proportion of their income in taxes than the richest 20%.
The inequities become worse as certain incomes, mainly accruing to the rich, are exempt from NIC. For example, no NIC is levied on capital gains and dividends. The argument used to be that governments levied a surcharge of 15% on investment income, but that was abolished in 1984. The anomaly is exploited by the tax avoidance industry as it devises schemes to convert income (taxed at marginal rates of 20% to 45%) to capital gains (taxed at 18% to 32%) and dividends (taxed at 8.75% to 39.35%). By taxing capital gains and dividends at the same rates as wages and levying national insurance on the same, the government can reduce tax and NIC avoidance. It can introduce equity and raise billions for the public purse.
Successive governments have been soft on NIC avoidance. The position of a partner in a Limited Liability Partnership (LLP) is no different from that of a director of a company. Both derive almost all of their income from one source. Companies pay employers’ NIC on director salary. Partners receive share of profit rather than a salary, but their firms do not pay the employers’ NIC on that share of profit. This perk enables the firms, effectively partners, to dodge around £148,000 of NIC for every £1m of profit shared by partners. In 2024, big four law firms in the City of London dodged £4bn of Employers’ National Insurance. Billions more are dodged by accountants, doctors, management consultants and others trading as LLPs. Why does the government not tackle perks for the rich?
Trade unions have long complained about contrived self-employment in the gig economy which deprives workers of rights and public purse of national insurance contributions. Drivers and other staff at companies such as Amazon, Evri and eCourier are treated as self-employed even though they receive almost all of their income from one source and follow orders from the companies. As self-employed workers they are responsible for their own tax and NIC. But through such arrangements, companies escape payment of employers’ NIC altogether. Reform is long overdue.
The government must address abuses of NIC and also restore equity and make the tax progressive. It has numerous policy options. For example, it can levy NIC on all employee and self-employed incomes at the rate of 8% and raise around £14bn a year. It can increase employee additional rate for income above £50,270 from 2% to 3% and raise £2.1bn a year. And there are many choices in-between. The government can implement progressive rates to ensure that higher earners pay about the same proportion of their income in NICs as basic rate taxpayers.
National Insurance is a tax and affects the distribution of income, wealth and level of inequalities. It must not escape public scrutiny. It is regressive and hits the less well-off the hardest. There are too many anomalies exploited by corporations and the comparatively rich, which forces normal people to pay a higher proportion of their incomes in taxes or forego public services. This needs to change.
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